When To Deduct Premiums

You can usually deduct insurance premiums in the tax year to which they apply.

Cash method. If you use the cash method of accounting, you generally deduct insurance premiums in the tax year you actually paid them, even if you incurred them in an earlier year. However, see Prepayment, later.

Accrual method. If you use an accrual method of accounting, you cannot deduct insurance premiums before the tax year in which you incur a liability for them. In addition, you cannot deduct insurance premiums before the tax year in which you actually pay them (unless the exception for recurring items applies). For more information about accrual methods of accounting, see chapter 1. For information about the exception for recurring items, see Publication 538.

Prepayment. You cannot deduct expenses in advance, even if you pay them in advance. This rule applies to any expense paid far enough in advance to, in effect, create an asset with a useful life extending substantially beyond the end of the current tax year.

Example. In 2001, you signed a 3-year insurance contract. Even though you paid the premiums for 2001, 2002, and 2003 when you signed the contract, you can only deduct the premium for 2001 on your 2001 tax return. You can deduct in 2002 and 2003 the premium allocable to those years.

Dividends received. If you receive dividends from business insurance and you deducted the premiums in prior years, at least part of the dividends generally are income. For more information, see Recovery of amount deducted in chapter 1.

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